Who Can Fix What's Broken at Microsoft?

Microsoft is entrenched in business and consumer consciousness as the company that owns the Windows OS and the Office productivity suite. But Apple has made serious inroads recently, capturing the imagination of both business and consumers with its iPad tablet device. Is Microsoft's efforts to protect its core markets hampering innovation? Some say yes.

From the other side, Wall Street may have missed a subtle answer from Ballmer. The company is not Apple and can't promise stellar growth or a rocketing share price any more. It is learning how to be a mature, fiscally responsible company that will return as much as it can to shareholders in other ways.

In this fashion, Microsoft may point the way for rising companies like Google, which one day will also face the issue of how to keep growth going beyond its initial success.

The Bright Side

On paper, Microsoft is still a strong and growing company. It notched record sales of $62.5 billion last fiscal year, up 7 percent from the year before, and its highest ever net profit of $18.8 billion. The 70 percent operating profit margin on its core Windows business is the envy of companies the world over.

The new Windows 7 operating system is a hit -- selling 240 million licenses in the first year and erasing most of the stink of Vista -- and looks set to continue Microsoft's 90 percent-plus hold on the operating system market. Its new Office suite of applications -- containing Outlook e-mail, Excel spreadsheets and PowerPoint presentation programs -- will likely remain the gold standard in the workplace.

Those two units underpin Microsoft's steady success, accounting for about 60 percent of sales and the vast majority of operating profit in the last fiscal year.

On top of that, its server and tools business, which sells the software and services that run companies' computing systems, is now a giant in its own right, although the profit margins are about half of those in the Windows unit.

With more than $36 billion in cash and short-term investments on its balance sheet, it is one of the handful of U.S. companies to hold AAA credit ratings. Bond buyers have faith in the company's long-term success, recently buying its 30-year debt at the lowest interest rates on record, according to Thomson Reuters data going back to 1970.

And yet, its shares remain tethered to the $25 mark, which they have revolved around for at least eight years. If you reinvested dividends over that time, you would actually have lost money, according to Goldman Sachs. By contrast, Apple shares have grown 25-fold in the same time.

As Microsoft's earnings rise but its shares don't, the ratio between the stock's price and expected earnings has shrunk to around 10 times. That is well below the software industry average of 16 times and Microsoft's 10-year median of about 19 times, according to StarMine data.

For some, that's a signal to buy. The current share price is "insanely cheap for a company of this caliber and market position," says renowned value investor Whitney Tilson, managing partner at T2 Partners LLC and the Tilson Mutual Funds, a holder and recent buyer of Microsoft shares.

In the second quarter, top hedge fund managers like Dinakar Singh at TPG Axon and David Einhorn at Greenlight Capital also scooped up Microsoft shares, according to Thomson Reuters data.

"The stock price is not necessarily an accurate barometer of the business," said Dan Hanson, a portfolio manager at BlackRock, which is one of the biggest investors in Microsoft, through various active and index funds, owning about 3.3 percent of the company. "They (Microsoft) have not gotten everything right, but the stock is priced that they are getting everything wrong."

"The underlying business has been performing extremely well," said Hanson. "That's a disconnect, and a real opportunity in the stock today."

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